Airline stocks up; index posts best gains since February

ChristopherHinton

NEW YORK (MarketWatch) -- Airline stocks rose Friday, building on solid prior-day gains as investors anticipate a better revenue environment later this year.

The NYSE Arca Airline Index
XAL, -3.21%
was up 4.5% to 20.36 points with 10 of its 13 components in the green. It is the first time the index closed above 20 points since February.

Leading the way was US Airways
LCC, +0.99%
up nearly 21% to $2.79. Continental
CAL, -1.93%
added 9% to $10.08, United parent UAL Corp.
UAL, -3.32%
jumped about 10% to $379, and American Airlines parent company AMR Corp.
AMR, +27.78%
rose 8.6% to $4.66.

On Thursday, Tempe, Ariz.-based US Airways reported a narrower-than-expected second-quarter loss and more cash on its balance sheet that in the last period. See full story.

In addition, Chairman and Chief Executive Doug Parker noted again during a post-earnings that the industry is in desperate need of consolidation, adding the federal government may be more open to such a strategy than in that past.

Tighter capital markets remain a major hindrance.

"One day I believe planets will align," Parker said, according to a transcript from Thomson Reuters. "I don't know if now is the time."

J.P. Morgan analyst Jamie Baker had noted in the past that US Airways is the most vulnerable to bankruptcy, following AMR and UAL, and therefore is more likely to be pushed into some form of Washington-mandated combination, possibly with United.

"Nothing this earnings season changed our view in this regard, nor our opinion that risk/reward in US Airways shares remains weak," Baker said in a Friday note.

Over the last two weeks, airlines have been reporting weak second-quarter yields and revenue trends due to fewer people flying. But investors have bid up the NYSE Arca Airline Index by more than 12% over the same period in anticipation that upcoming seat capacity cuts and stable booking rates may herald the end of bad times.

And though airlines groaned over the steep decrease in yield, or the average price a person pays to fly one mile, they have also been showing some success in raising domestic prices over the last six weeks, according to data provided by Farecompare.com.

That seems to signal the erosion in domestic demand has come to halt, freeing airlines to shake off some of those sharp airfare discounts that were meant to get people in the seats and keep up the industry's high load factors.

The key from here on out will likely be benchmark oil and fuel prices, employment growth and economic recovery. Meanwhile, post-Labor Day capacity cuts scheduled among the legacy carriers should help to firm up ticket prices, but it may take some time.

"We are forecasting an improvement in domestic yields and [unit revenue] in the third quarter, reflecting continued domestic capacity discipline, record load factors and strong late-booking patterns," said FTN Equity Capital Markets analyst Michael Derchin.

But business travel trends remain a big question mark for airlines.

Carriers from Continental to low-cost Southwest
LUV, -3.91%
note the leisure traveler, attracted by airfare sales, has been a godsend to the industry and responsible for revenue erosion not being worse than it is. Unfortunately for the airlines, their season ends with the summer, and it's not clear that a slight climb in higher-margin business travel will be enough to offset their absence.

"We have seen stabilization in business demand and candidly, have seen a bit of an uptick, but I think it's very early to be trying to call that fact a trend," Delta Air Lines
DAL, -5.19%
Chief Executive Richard Anderson warned on a post earnings call. See related story.

"Some carriers have already announced deeply discounted fare sales for targeted periods of weakness in the fall in an attempt to fill seats that have historically been filled with business traffic," added Continental Chief Operating Officer Jeff Smisek, speaking on the third quarter.

"Unless we see a rebound in business traffic, we expect that this trend will continue" into the third quarter, he said. See related story.

Meanwhile, international trends bode poorly for the legacy carriers, as strong business-travel demand in that sector had been a key to their unit revenue growth.

Many economists pin the beginning of an economic recovery to the fourth quarter, and there have been signs among manufacturers that business is picking up, albeit off of a very low base. See related story.

Some aerospace analysts have said that's no guarantee that passengers will return next year. Observers of jet-makers Boeing Co.
BA, -0.84%
and European Aeronautic Defence & Space Co.'s
EADSY, -1.69%
(EAD) Airbus predict high numbers of delivery deferrals for new plane deliveries in 2010 and 2011 as passenger and freight airlines continue to adapt to less demand. See related story.

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